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If you didn’t catch it, last time I wrote about why Cryptocurrency will win. Take a look if you haven’t yet!
The goal for today is more for those who are, at least ideologically, bought into the idea of cryptocurrency but may not know where to start. But before I do, I want to address some of the common pushback or arguments made against cryptocurrency. If you are more or less bought in already, feel free to skip this part, though you may still find it interesting!
Point: nothing backs cryptocurrencies like Bitcoin while the Dollar is backed by the US Government/military!
Counter: Bitcoin’s decentralization and cryptography makes it virtually impossible to mess with. This tamper-proof setup is stronger backing in the 21st century than “men with guns” can provide. This represents a broader shift: cyber warfare between US, China, and Russia is a far greater threat than any actual invasion.
Point: but the U.S. Government could just shut it down!
Counter: they can’t though. Bitcoin’s core network is decentralized and global – it could feasibly run off of a couple hundred random houses scattered throughout the world. More feasibly, the U.S. government could make owning cryptocurrency illegal or shutdown the “on-ramps” where people transfer US Dollars from banks and into cryptocurrency exchanges. Still though, these are quite unlikely: we now have multiple S&P 500 companies with cryptocurrencies in their reserves. More likely, they’d make it tough for “the little guy” to get dollars into crypto. But even that should be easily circumvented by a VPN and off-shore services (sports gambling in many states works just fine this way, after all!).
Point: but Bitcoin is bad for the environment!
Counter: Bitcoin does consume a lot of raw energy, this is true. But the paradigm that energy consumption == bad for the environment is a) misguided on face and b) overly simplistic. On (a) I’ll write a longer piece around energy maximalism but we can’t be afraid of using energy. Energy use has pulled humans from hunting and gathering into what we are today. To progress further will require more energy. On (b), Bitcoin developer Jimmy Song provides a good summary of how Bitcoin is one of the few profitable uses of excess capacity often produced by green energy sources: hydroelectric, wind, and solar. This energy can’t easily be stored (batteries are expensive and inefficient) and unlike gas/oil the production can’t be “turned down”. By using this energy, Bitcoin provides a profitable use for that energy, thus reducing the payback period and making it more profitable to pursue these kinds of green energy projects.
Point: but Bitcoin doesn’t do anything, it’s just numbers in a computer, it’s not physical like gold!
Let me be clear: there is no such thing as a real physical Bitcoin. If someone tries to sell you one, DO NOT BUY it!
Counter: so many things to say here! One, that is all your US dollars are at this point: numbers moving from bank to bank.
Two, this misunderstands a lot about what Bitcoin is:
- The supply is truly fixed, unlike gold and certainly unlike the US Dollar
- It is impossible to counterfeit or forge
- It can be transferred anywhere on the globe within 10 minutes, anonymously, and any amount large or small can be stored on a computer or flash drive
Bitcoin is not the first digital thing that we value more than physical goods: trillion dollar companies already exist from making nothing but software. While gold is pretty and sparkly, that will be no match for the practical benefits Bitcoin provides as a store of value and medium of exchange.
Point: the Dollar is easy to use though, there’s no incentive for people to switch.
Counter: two things to mention here. One, holding the dollar opens you up to a large amount of inflation risk due to the unpaid tabs of the U.S. government (and every other government-run currency). Two, the ease of crypto is coming. A lot of it is here now, as we’ll get into, but crypto debit and credit cards are just hitting the market. As with many big paradigm shifts, change will happen slowly… and then quickly.
Point: but it is expensive/complicated to buy and send cryptocurrencies!
Counter: this is also an area where the rate of change is accelerating. Buying crypto is incredibly simple, secure, and relatively inexpensive. Not only that, it is now possible through DeFi (Decentralized Finance) to earn solid interest rates (ranging from 3% to ~15%) on your cryptocurrency funds. And this is the topic for today, so get ready to make some money!
While the rebuttals there ended up a bit longer than I had planned, I think it’s important to address these arguments (myths?) against Bitcoin and other cryptocurrencies. Even then, I didn’t touch on a lot of the benefits (impossible to inflate, censorship resistant, outside of government control, programmable).
But beyond the arguments for crypto, there are the mechanics of it. And that is what I hope to cover today. It is an ecosystem where there are a lot of different services that all have different fees and different offerings. Having done a lot of research over the past few weekends, I want to share the best way I’ve found to a) view the ecosystem, b) minimize fees for buying and transferring, and c) maximize the yield I receive on my various cryptocurrency holdings.
If you are an investor (or aspiring to be one) in crypto, you can view the industry as having four layers:
- Funding Layer: where do I get USD from my bank account somewhere where I can buy cryptocurrency?
- Trading Layer: where do I buy cryptocurrencies with my dollars?
- Storage Layer: where do I store my cryptocurrency?
- Finance Layer: where do I earn yield on my cryptocurrency?
This is a simplification, and crypto experts may take issue with how this is portrayed, but for a beginner or intermediate investor, it suffices as a way to view the crypto ecosystem.
In each of these layers there are various services. And some services span all of them in practice. Coinbase, for instance, provides free transfers from your bank account (funding), you can buy ~30 different cryptos there (trading), has a built-in (custodial) wallet (storage), and with a few cryptos you can stake (finance) them there as well for a ~5-6% APY.
So you can start with Coinbase, but you are going to pay fees that are a bit too high (1.5% for regular Coinbase) and your options to buy are somewhat limited. Your storage is also custodial – meaning that you are essentially trusting them with your crypto holdings rather than holding them yourself (self custody). And lastly your financing options are very limited and provide lower yield than you can get elsewhere.
So let’s fix those issues! I’ll spare you a full tour of the ecosystem and just go into what I’ve found to be the best tool at each layer for Bitcoin
What Coinbase doesn’t tell you is that you can go to pro.coinbase.com and magically cut your fees by 67% (from 1.5% to 0.5%)! A 1.5% fee is high in the crypto world – don’t beat yourself up if you have payed that (or more), but also don’t keep making the same mistake. Coinbase Pro has the same easy and instant ties to your bank accounts that enable free transfer of your dollars into your account. If you started with $10,000, you now have $10,000 in the crypto ecosystem.
If you were to buy your BTC on Coinbase Pro, you’d have $9,950 worth of Bitcoin at the moment of purchase. Not bad, but Kraken offers better fee structures: 0.26% for the base taker fee. So if you can buy there, you’d have $9,974 worth of BTC after your purchase.
Of course, we have to get money there. To transfer the money over, we’d have two options:
- Convert USD to USD Coins (crypto) at 1:1 and then transfer the USD Coins over to Kraken (paying the Ethereum network fee).
- Convert to Stellar (XLM) which we would pay the 0.5% Coinbase Pro fee, but then have a free transfer on the Stellar network.
Depending on your amount and the current cost on Ethereum, one of these options will be cheapest. If the Ethereum network fee is running around $10 or so, you can transfer ~$9,990 over to Kraken and then buy BTC at 0.26% fees to land with ~$9,964 worth of BTC rather than $9,950.
That’s not a major difference, but given the more transactions you are doing, that difference of 0.26% vs. 0.5% will add up. Kraken also offers more currencies (~55 vs ~30) and additional staking options compared to Coinbase/Coinbase Pro. In some cases (e.g. with BTC actually) you may be better off buying on Coinbase Pro directly (using it as your funding and trading layer) to minimize transfer fees, but it is absolutely worth having a Kraken account as well.
As covered above, various crypto services, like Coinbase and Kraken can hold your crypto for you. This is called a custodial service. While they say the crypto belongs to you and in your account, it functionally belongs to Coinbase or Kraken on the blockchain.
Most people don’t mind this difference, certainly for the short-term. Coinbase is by all accounts reputable and does have 98% of its funds stored in a cold storage wallet. Still – if they are hacked or your account is hacked then you could lose your funds.
The other option is self-custody, either through a software wallet (an app you install on your computer or your phone) or a hardware wallet (a device similar to a flash drive that holds a cryptocurrency wallet).
I am currently storing some Bitcoin in an Atomic Wallet (the portion that I am not using in the finance layer, which we’ll get to). While it is not as secure as a hardware wallet, well, you can also lose a hardware wallet, so I’d rather opt for something I can restore (even if my computer dies, I can load it onto another device by using my recovery phrase).
There’s an added benefit that my software wallet isn’t tied to my name in any way. It is anonymous. Coinbase and other exchanges require names, addresses, and social security numbers. Software wallets do not. It is more in the spirit of cryptocurrency. While I will of course pay taxes on any gains that I make within the wallet, it is on my terms.
Getting money from Kraken or Coinbase Pro into Atomic Wallet would require paying the network transaction fee. These again depend on what network you are using and how busy it is at a given time. As I write this, the fees for a Bitcoin transfer are roughly $2.00, so depending on the amount you are transferring this could be a large or small percentage. Sticking with the $10,000 base, it’s relatively small and we can get $9,962 of the $9,964 we bought on Kraken into our Atomic Wallet.
Last, but certainly not least, you may want to get some interest on that money! Get that money working for you! While interest rates for the US Dollar have been manipulated by a central source, that is not the case with crypto.
BlockFi is a service that offers people loans that use their cryptocurrency holdings as collateral. As such, they can pay you a decent rate of return on your crypto if you let them use it to provide people their loans. Let’s not overcomplicate it: it’s a cryptocurrency bank.
Unlike a bank though that may pay you 0.25% on your savings account (if you are lucky), BlockFi will pay you 6% APY on your Bitcoin. That, unlike the 0.25%, is actually meaningful.
Transferring money to them costs only the network transaction fee (~$2 at the moment), so even if we jumped from Atomic Wallet to here (rather than going directly from Kraken) we’d still even $9,960 in our BlockFi account.
Let’s extrapolate that out for a bit: we lost 0.4% of our $10k along the way. But now we are earning 6% interest on that (paid in BTC and compounding) and gaining exposure to Bitcoin’s change in value. So if we hold for one year and Bitcoin’s price goes up a modest 10%, we are actually gaining 16.1% return on our money. Not bad!
In addition to the “financing” option, many newer cryptocurrencies rely on staking rather than mining in order to operate the system. In simple terms, staking means you are putting your held tokens on the line and acting as a validator who confirms whether new transactions are valid. In practice, that act of validating the transactions is typically done for you by the exchange or the pool, and they keep a small portion of the total reward.
While Bitcoin is proof-of-work rather than proof-of-stake, many up-and-coming cryptos do operate in this way. So among other things you can earn 5.5% staking Tezos (XTZ) on Kraken, 6% staking Algorand (ALGO) on Coinbase, 15% staking Zilliqua (ZIL) on Atomic, or 12% staking Polkadot (DOT) on Kraken.
We’re hitting on 2,000 words, so if you got here I commend you for your attention span! That said, there is a lot more detail that we could go into. And I should also be clear that I am far from an expert.
But I am fairly good at understanding systems, distilling them down, and translating them with relatively minimal jargon. That’s hard when you are in the software space as it relies on abstractions and abstractions rely on jargon. But hopefully this gives you a base plate of how to view the crypto ecosystem as an investor and how to start with Bitcoin.
If you have any questions, please feel free to leave a comment or message me by e-mail or social! I’d be more than happy to answer them as best I can!